Private Equity Could Be “Penalized” If Rates Go Up, Says One Executive

The effect of rising interest rates on private equity deal-making may go beyond cutting into the availability of cheap debt, according to one industry executive.

Adam Max, managing partner of midmarket buyout firm the Jordan Co., said on a webcast hosted today by The Deal that one possible outcome of rising interest rates lies in the benchmark that limited partners use to assess firms’ performance.

For those limited partners who use U.S. Treasury notes as a benchmark, the rise in Treasury yields means that private equity firms are being held against a higher bar, Mr. Max said.

Treasury notes are currently yielding between 1% and 3%, and if that goes up to say, 5% to 6%, then on an absolute basis, the benchmark is more than 3% higher, said Mr. Max. That will change the investors’ expectations of returns from private equity, he said.

“We haven’t received full credit for the spread over Treasury, and I think we will be penalized if the Treasury yield goes up,” said Mr. Max on the webcast, “Deals in 2013: Review & Outlook.”

Mr. Max has called himself a “worried optimist” in the past. During Tuesday’s webcast, he was asked about his outlook for private equity in the next year. Here again, he wasn’t any more cheerful.

“I know I will be older, and that we will be closer to the next cycle,” said Mr. Max. “That concerns me and my firm.”

He said his firm is “concerned about being on the defensive and being prepared for what’s coming.”